Red flag from Wall Street as deal making wanes

Opinion: Despite fat balance sheets, the M&A landscape is withering

SAN FRANCISCO (MarketWatch) — It was another “merger Monday” as Wall Street kicked off its week.

American International Group Inc. agreed to sell its interest in International Lease Corp. to AerCap Holdings N.V. for $5.4 billion, and Avago Technologies Ltd. agreed to buy semiconductor maker LSI Corp. for $6.6 billion. At more than $12 billion in just those two deals, you’d think there’d been a return to the good old days when companies, brimming with confidence, bought and sold at a dizzying pace; share prices of targets got big pops; investment bankers banked big fees; and investors tallied big returns.

But Monday’s announcements were actually an anomaly. Here’s the reality of the current mergers-and-acquisitions market: It stinks.

Deal volume is down. Corporate confidence is shaky. M&A these days stands for “mulling and ambivalent.” That, or “morose and atrophied.” Deal-making activity has sputtered since the financial crisis of 2008, but it’s really fallen off this year.

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Overall, global M&A is down 1% for the year through the end of November, according to Thomson Reuters. The U.S. market is down 20% from last year, according to Mergermarket.

Just as troubling: Global advised M&A, the type that uses investment bankers as catalysts and generates fees, has fallen to 73% of all deals this year. That’s down from 77% last year, according to Dealogic. And the adviser-less deal ratio was just 80% through the end of last month, lowest on record. Historically, advisers have been used in more than 94% of large transactions of $1 billion or more. This year it’s just 88%.

No surprise, then, that M&A advisory fees have tumbled. Among the big banks, fees were off 19% at Morgan Stanley
MS, -1.17%
17.2% at J.P. Morgan Chase & Co.
JPM, -0.74%
16.9% at Goldman Sachs Group Inc.
GS, -1.03%
15.8% at Bank of America Corp.
BAC, -1.38%
and 14.8% at Citigroup Inc.
C, -0.71%
according to a Dec. 11 report from SNL Financial.

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This is a notable reason that there hasn’t been a bigger, deeper banking rally. Advisory fees, after all, have historically been the second-most profitable for the industry, after the fees generated from underwriting initial public offerings. In 2008, Wall Street made $35 billion in investment-banking profit. And in the big M&A year of 2007, firms raked in $49 billion, almost all of which was pure profit. This year, estimates have big financial firms falling well short again — probably closer to $25 billion to $30 billion.

“M&A growth drivers have been in place for some time,” SNL wrote. “Companies have plenty of cash on their balance sheets, which should give them the dry powder for deals; interest rates are still historically low, which should provide cheap financing for deals; and the slowly improving economy makes organic growth more challenging, which should make growth by acquisition more appealing.”

So why isn’t deal making taking off? SNL says it has to do with CEO and board confidence. Five years after the financial crisis, corporate leadership is still gun shy. Moreover, these would-be deal makers also appear to be skeptical of the expertise or value of advisers. So, if they choose to do a deal, they do it alone.

The trepidation isn’t necessarily a bad thing. M&A advice, as I’ve written before, is in many ways Wall Street’s greatest con. Deals sold to investors as creating “efficiencies” or “synergies” have repeatedly fallen short of the promises. Close to 90% of European mergers fell short of their objectives in 2007, according to Hay Group. In the end, there’s probably good reason.

But the lack of deal making signals a troubling trend. Corporate confidence surveys show optimism retreating. And the lack of M&A — even in the midst of the nurturing environment catalogued by SNL — is the empirical test that underscores it.

Ultimately, this leaves investors in a tough spot. Conditions are right. The market is pointing up. Deals should be coming fast and furious, paying investors big premiums. But if CEOs are reluctant — for good reason or not — then what’s the message?

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